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Yum! Brands Poised to Grow Post China Division Separation

On Mar 7, we issued an updated research report on the world's largest restaurant company in terms of system units, Yum! Brands, Inc. (YUM - Free Report) .

Currently, Yum! Brands owns, operates and franchises over 43,500 fast food stores, under the KFC, Pizza Hut and Taco Bell brands in more than 135 countries and territories.

Impact of the China Business Separation

Shares of Yum! Brands outperformed the Zacks categorized Retail–Restaurants industry from the beginning of 2016 to Oct 31. In this time frame, Yum! Brands gained 18.1% while the industry declined nearly 4%.

The spin-off of the company’s all-important China division into an independent, publicly-traded company on Oct 31 has however, hampered the growth tale. Post separation, shares of the company underperformed the broader industry by recording a decline of 25.2% till today, as against industry’s gain of 2.8%.

Nonetheless, the company is leaving no stone unturned to subsidize the effects of the spin-off as well as to bring its growth story back on the track. Notably, Yum! Brands three-year strategic transformation plan is expected to bring much growth, moving ahead.

Plan Details

The company’s transformation and growth strategy entails greater focus on the development of its three iconic global brands, increasing its franchise ownership and creating a leaner, more efficient cost structure.

While the Pizza Hut brand’s international division has been largely doing well, the company is working on a number of areas like digital experience, delivery times, point-of-sale system simplification, and asset optimization, among others to turnaround its U.S. operations as well.

At KFC, management expects to further increase brand engagement and boost sales through a big push on the digital front in 2017. Also, given the fact that delivery is the fastest growing channel in the business, the brand anticipates to expand its delivery services around the world.

Various sales initiatives such as the launch of the dollar menu, innovative marketing strategies and expanded line of breakfast offerings are expected to drive growth at the Taco Bell brand. On the international front, Taco Bell continues to build momentum with new restaurant openings in various markets

Meanwhile, Yum! Brands expects to become a "pure play" franchisor with more stable earnings, higher profit margins, lower capital requirements and stronger cash flow conversion, In fact, the company is committed toward becoming at least 98% franchised by the end of 2018.

Also, Yum! Brands aims to revamp its financial profile and thereby improve the efficiency of its organization and cost structure globally. It believes that a “slimmer Yum Brands” would lead to efficiency gains.

Headwinds

Yum! Brands is highly exposed to various emerging nations in Latin America. These nations have been exhibiting decelerating growth for some time due to various macro headwinds, which would dent sales, going ahead.

Foreign exchange translation is also a concern for the company given its significant international presence.

Moreover, a challenging sales environment in the U.S. restaurant space is also likely to keep the top line under pressure.

Bottom Line

We believe that the company’s efforts to revive business by driving growth at KFC, Pizza Hut and Taco Bell brands and thereby improve the key drivers of its business, comps and net new units, following the separation of the China division, bode well.

However, the China business accounted for more than half of the company’s total revenue and has played a pivotal role in its solid performance over the last few years. Thus, the slight uncertainty surrounding its business post the spin-off remains a near-term concern.

The Zacks Consensus Estimate for Potbelly’s 2017 earnings climbed 2.2%, over the past 30 days. The company’s earnings surpassed the Zacks Consensus Estimate in each of the last four quarters, with an average beat of 39.82%.

Dave & Buster's earnings surpassed the Zacks Consensus Estimate in the trailing four quarters, with an average beat of 37.81%. Meanwhile, for fiscal 2017, EPS (earnings per share) is expected to improve 35.1%.

Darden’s earnings surpassed the Zacks Consensus Estimate in each of the last four quarters, with an average beat of 2.57%. Further, for fiscal 2017, EPS is expected to grow 11.1%.

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